CBO Warns of the Risk of a U.S. Fiscal Crisis

It’s difficult to forget the drama—including riots, fires, and even deaths—that unfolded during Greece’s recent fiscal crisis. But what would happen if bad budget policy led to a financial crisis in the United States?

A recent report from the Congressional Budget Office (CBO) points out the economic casualties of a fiscal crisis in the US would be devastating.

Second, such a surge in interest rates would dramatically worsen an already dismal budget picture. According to CBO, a 4 percent increase in interest rates would raise interest payments by $100 billion—a 40 percent leap above CBO’s current baseline projection. If that trend continued, net interest would reach $460 billion in the year 2015 alone.

Third, a jump in interest rates would cause the value of existing government debt to drop precipitously, which would result in losses through mutual funds and pension funds and for other debt holders. CBO warns those losses “might be large enough to cause some financial institutions to fail.” Similar losses for banks would collapse their capital base, forcing a dramatic drop in lending.

Finally, with the federal government cut off from credit markets, the Federal Reserve could be forced to print money to pay for ongoing deficit spending. Not only would inflation effectively make citizens poorer while the purchasing power of their earnings and savings tried to catch up, but it would increase interest rates further to reflect both the higher inflation and the resurrection of the inflation uncertainty premium in interest rates.

Unfortunately, unless America reforms its fiscal policies, it will be a question of when rather than if a crisis will ensue. As CBO notes, a government already heavily in debt and with a bleak long-term budget outlook has an increased probability of experiencing a financial crisis.

Sound familiar? In the U.S., debt currently stands at a peacetime record high of 62 percent of the gross domestic product (GDP). By 2020 debt will reach nearly 90 percent of GDP, and the International Monetary Fund has recently pointed out that the U.S. long-term debt situation is one of the world’s worst.

The easiest way to stop the debt from growing out of control is to stop adding to it by cutting spending, particularly on entitlements. CBO calculates that stabilizing the debt-to-GDP ratio for 25 years would require an immediate spending cut equal to 5 percent of GDP. If we wait for a fiscal crisis, the level of austerity required would be even more severe—not to mention economically devastating.

This report should serve as a wake-up call about how risky a financial crisis would be for the U.S. economy.

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Nicola Moore is Assistant Director of the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation. Moore advances Heritage's conservative solutions to economic challenges through research and analysis, focused primarily on the rising cost of the major entitlements -- Medicare, Medicaid and Social Security.

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Wouldn't the Glass/Steagall amendment solve the global & U.S. problem. Derivatives would be outlawed as gambling debt & forgiven, if I understand the amendment going back to the FDR 1933 bill he signed into law. This law allowed us to have the safest, best banking system in the world. We were even able to control the Brittish Big Banks, such as J.P. Morgan, and others who have had to accept TARP money to remain in business. Is Lyndon La Rouche correct. He advocates re-instituting this amendment and this would include the Breton Woods fixed exchange rate. If we are solvent, won't Europe follow suit?

Mr. La Rouche has said many times we need to do this now! Before the end of September, '10. Kay V E…

Where were they when they were handing out those absurd cost estimates for Obamacare? Where was all the concern each time the Obama administration kept extending unemployment compensation benefits, immediately after Mr. Obama signed the "Pay-Go" bill, without first coming up with an offsetting cut in federal spending for these extensions? Where was the CBO's concern when the Obama administration increased the number of federal employees this year? Why hasn't the head of the CBO been vocal in the press about massive government spending, including the pay raises they gave themselves this year?

I'm sorry, I think the CBO is just another rubber-stamping bunch of federal bureaucrats "just following orders".

This Nation does not even have a "Cash Flow" from which to repair itself. We have chased and given away all of our Manufacturing jobs to other Nations Through Regulations, Fees, Taxes, Laws, Agreements (NAFTA), killing the incentive for innovation, and investment.

Then we add to that the complete unwillingness of our Federal Government to remove Illegal Aliens from our Nation, not only to make available jobs for our own Citizens, but to lessen the burden on our Social Systems, and all for the potential of the 20 million extra votes they hope to get.

Well, I have a surprise for them, if given amnesty, 20 million Illegals are going to vote for any Mexican sounding name, running for any office anywhere, at any time, and the Political Party of choice will not matter one bit. And the topper is, the flow of Illegals into this Nation will not stop, but only increase!

We are not one World, we are America, and we should be number 1, and taking care of our own first, building what we need right here, first, not buying Wind turbines from China for Green Energy because its cheaper, with our Tax Money!

If this November does not turn this Nation around 180 degrees from where it now is, then you best have skills to trade for the foodyou will need, and visa versa, and weapons to protect both.

The sense of panic in the White House for standing on the edge of a debt cliff, is to squeeze for more money. Reducing spending or rooting out illegal fraud on bogus spending is not on the table. That would take too much administrative work, and a higher level of performance by the administration. No it's easier to let the thieves steal, the meaningless spending to grow unabated, and raise taxes to reduce the deficit. No concern that bleeding the patient may weaken the economy and that will be a bigger problem than the deficit at the moment.

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